Taxes–part 2

Before we discuss taxes again, I want to get rid of the elephant in the room. It may be obvious to some readers that these blogs don’t concern themselves heavily with the news of the day, with the strange and different behaviors and remarks of the current Administration. Here is why. This blog is about trying to give voice to a very large segment of Americans for whom a centrist policy makes sense, who share a willingness to compromise to get things done. It is trying to provide an alternative to Tea Party and fundamentalist Republicans, and hard left Progressive Democrats. The current Administration is neither. I believe it is an anomaly, brought on by a Republican primary with 16 candidates and no party leadership, by an uninspiring and tired Democratic candidate, and a large sector of the voting public that feels it has been ignored for too long. Criticizing and questioning the Administration, which is an easy shot, would pull this blog off-message.

In the prior post on taxes, we eliminated most federal options other than wealth taxes and income taxes. One important point I left out concerning so-called “sin” taxes, is that when they get too high, they encourage criminal smuggling and violent cartels.

The US has never had a wealth tax. It could theoretically raise a very large sum of money. But there are several serious problems with it. First, people have never had to declare all their assets, and if they were forced by law to do so, with a tax impending, there would be massive and flagrant cheating by non-reporting and under-reporting. Unlike income, which is reasonably well documented by W-2 forms, 1099 forms, reports by banks and brokerage firms, vast amounts of data on assets are not in IRS hands, or even in the hands of institutions like banks who can be forced to produce client data. Second, wealth would soon flee the country, to be invested or hidden offshore. No longer available for investment in the US, we would find our capital stock and investment declining, leading to an anchor on our economic growth and resulting improvements in standard of living.

That leaves income taxes, both business and personal, as the only practical and meaningful way for the government to raise the money it needs to function. Income taxes have several advantages. First, they are progressive, not regressive, i.e., those who earn more pay more (even with a flat percentage tax), and can better afford to do so. Second, a great deal of documentation concerning earnings and profits is well documented, leading to much higher voluntary (and involuntary!) compliance. That’s the easy part. The hard part is how much, and who pays, what deductions, if any, are allowed, whether investment income is taxed differently from wage income, etc.

Let’s look at the easiest part first, corporate income taxes. It makes no sense that we have one of the world’s highest stated corporate income tax rates, but with numerous deductions and carve-outs because of lobbyists, campaign contributions and influence. We also lose headquarters of companies through “inversions” where they acquire a foreign-based company and change their headquarters to that nation because it has lower tax rates. It also makes no sense that we are one of the few nations that taxes repatriation of earnings from foreign subsidiaries of multi-national corporations, even though they have already been taxed by the nation the sub resides in.

We should drop the corporate rate to 20% (not the lowest, but clearly competitive), and allow repatriation of earnings with a cheap amnesty, 5-10% tax rate if done within one year. We should also, in one clean sweep, get rid of special incentive reductions of taxes, whether for favored industries or not. Oil companies don’t need depletion allowances any longer; solar companies shouldn’t get tax deductions or rebates. And we need to end the double taxation of foreign earnings on repatriation. I believe that we will get as much or more tax revenues on an ongoing basis, gain a one-time windfall on repatriation of the trillions of dollars now offshore, and see greater investment in the US through the productive use of those dollars. The people who will be hurt most are lobbyists.

Similar principles should apply to individual income taxes, with a few exceptions that will be made clear. But everyone should pay taxes, and no one who earns money or gets transfer payments should be excepted. Everyone needs to have a stake in paying for the services they demand. But clearly, graduated rates are in order, as the rich are better able to pay a larger percentage than the poor.

Here are some suggested rates: 2% on the first $25,000 of earnings, 10% on earnings between $25,000 and $60,000, 20% on earnings between $60,000 and $150,000, 28% on earnings between $150,000 and $400,000, and 35% on all earnings above $400,000. While these brackets may seem arbitrary, there is some logic to them. Even someone earning $7.50 an hour in a full time job would earn $14,625 (after SSA deductions) and pay a tax of $292.50 even if they did not take a standard deduction, less if they did. They will now care how tax money is spent, and whether the spending will lead to tax increases. At the other end of the spectrum, I believe that somewhere above 1/3 of a person’s incremental wages going to the government results in a loss of incentive for more work, extra efforts at legal (or illegal) tax avoidance, and a stinginess toward helping those who really need help. Obviously, the rate at which one or more of these negative behaviors kick in, will differ for different people, but clearly the higher the rate, the more people hit the point where their behavior changes. There is nothing magic about the brackets or rates I suggest, they are all open to debate, but I think they are close to right. The table below illustrates the amounts and average rates that would be paid.

Annual IncomeTaxes PaidMarginal RateAverage Rate

$10,000 $200 2 % 2%

$25,000 $500 2% 2%

$50,000 $3000 10% 6%

$100,000 $12,000 20% 12%

$200,000 $36,000 28% 18%

$500,000 $127,000 35% 25.4%

$1,000,000 $302,000 35% 30.2%

Deductions also should be curtailed, if not eliminated. I believe a deduction for charitable contributions should be allowed, but it could be capped at 20% of income. Deduction for interest on a home mortgage should be limited immediately on more than one home, and phased out for all new mortgages over a period of five years (existing mortgages at the time the tax law passes should remain deductible for one residence). All other deductions should be eliminated, although phasing out of some might be wise, and should be looked at. Thousands of pages of regulations could and should be eliminated.

There is a real question whether a different scale of taxation for capital gains on investment should be included. It does favor people who can invest (i.e., the more well-to-do), but it encourages investment, which is necessary to provide the means to increase GDP and standards of living. In fact, a case could be made for extending the holding period needed to take advantage of the lower rates, say two years to reduce the tax rate by 20%, three years to reduce it by 40%, all the way down to 5 years and beyond, being taxed at only 20% of the applicable rate for ordinary income for the individual payer. It would certainly increase long-term investment over mere trading.

All of these should be run against models to show how revenues would change, and rates modified to meet the needs. I don’t have access to the necessary computer models, but it should be tested both by static and dynamic models, i.e., if nothing changed in the economy as a result, and if the economy grew by different reasonable percentages.

The main conclusions in this rather lengthy post are that we are not that far today from what should be done in individual taxation, where the goal would be mainly to simplify, but that competitive changes in corporate rates would bring more money back to the US, and keep company headquarters here.

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10 thoughts on “Taxes–part 2”

You don’t have to comment on everything the Administration does. Lots of others have that arduous task covered. But the occasional comment on news as it relates to your theme is good, as you did with Macron’s victory.

As far as your conclusion on taxes, we may not be far away, but we don’t seem to be getting any closer, either, because both parties have become the place of rigid ideology and fierce opposition to anything the other side thinks or says.

Good work on dissecting our tax laws and process. We agree on many of your statements and differ on a few, but I have no doubt that those can be resolved in conference, without the influence of lobbyists.

Eliminating many of the convoluted deductions and other tax schemes could bring in more money into the treasury, greatly reduce time and effort by taxpayers, greatly reduce the amount of paper, and results with the very wealthy contributing more of their fair share.

Thanks for your comments. I agree with almost all you say. My only caution is when we start on “wealthy contributing more of their fair share”. Clearly the wealthy can better afford to pay for the cost of government than the poor, but how much is enough? It depends on your perspective–if you ask the wealthy, they think they already do pay more than their fair share. I think a better way to look at it, is what is the most efficient tax policy, which permits the most growth in GDP while paying the expenses.

Your tax ideas are, of course, sound. The situation is that every single line of tax code has its defender in the House and Senate. There is a reason our tax code is long and complicated. I don’t think you can make a trade like Oil will give up depletion if Solar gives up tax deductions or rebates. Actually I think the opposite works. Oil will give Solar tax deductions or rebates if it can keep depletion.
I don’t know how you unbuild the skyscraper that has been built.
The challenge is in the politics.

Bert, thanks. I acknowledge that our experience certainly proves your point, but I am unwilling to give up. I think a third party, once it gained sufficient mass and voting power, might be able to alter the landscape, not beholden to longstanding commitments to supporters. To fix the beast, we know that if we are going to make changes, someone will get hurt, and so must make sure its is clear that everyone shares some of the pain to fix the problem. Also, trading reduced marginal rates of taxation for elimination of special deductions is a trade which could be acceptable, even if there is some net benefit to some, and harm to others.